Realized volatility forecasting and market microstructure noise

Torben G. Andersen; Tim Bollerslev; Nour Meddahi

doi:10.1016/j.jeconom.2010.03.032

Realized volatility forecasting and market microstructure noise

Torben G. Andersen, Tim Bollerslev, Nour Meddahi

Finance

Research output: Contribution to journal › Article › peer-review

132 Scopus citations

Abstract

We extend the analytical results for reduced form realized volatility based forecasting in ABM (2004) to allow for market microstructure frictions in the observed high-frequency returns. Our results build on the eigenfunction representation of the general stochastic volatility class of models developed byMeddahi (2001). In addition to traditional realized volatility measures and the role of the underlying sampling frequencies, we also explore the forecasting performance of several alternative volatility measures designed to mitigate the impact of the microstructure noise. Our analysis is facilitated by a simple unified quadratic form representation for all these estimators. Our results suggest that the detrimental impact of the noise on forecast accuracy can be substantial. Moreover, the linear forecasts based on a simple-to-implement 'average' (or 'subsampled') estimator obtained by averaging standard sparsely sampled realized volatility measures generally perform on par with the best alternative robust measures.

Original language	English (US)
Pages (from-to)	220-234
Number of pages	15
Journal	Journal of Econometrics
Volume	160
Issue number	1
DOIs	https://doi.org/10.1016/j.jeconom.2010.03.032
State	Published - Jan 2011

Funding

We are grateful to Federico Bandi, Peter Christoffersen, Peter R. Hansen, Per Mykland, Neil Shephard, Viktor Todorov and participants at various conferences and seminars for helpful discussions. We also thank Selma Chaker and Bruno Feunou for excellent research assistance. The work of Andersen and Bollerslev was supported by a grant from the NSF to the NBER and CREATES funded by the Danish National Research Foundation . The work of Meddahi was supported by MITACS. This paper was written while the third author was visiting CREST. He thanks the CREST for its hospitality and financial support.

Keywords

Eigenfunction stochastic volatility models
High-frequency data
Integrated volatility
Market microstructure noise
Realized volatility
Robust volatility measures
Volatility forecasting

ASJC Scopus subject areas

Economics and Econometrics

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10.1016/j.jeconom.2010.03.032

Cite this

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title = "Realized volatility forecasting and market microstructure noise",

abstract = "We extend the analytical results for reduced form realized volatility based forecasting in ABM (2004) to allow for market microstructure frictions in the observed high-frequency returns. Our results build on the eigenfunction representation of the general stochastic volatility class of models developed byMeddahi (2001). In addition to traditional realized volatility measures and the role of the underlying sampling frequencies, we also explore the forecasting performance of several alternative volatility measures designed to mitigate the impact of the microstructure noise. Our analysis is facilitated by a simple unified quadratic form representation for all these estimators. Our results suggest that the detrimental impact of the noise on forecast accuracy can be substantial. Moreover, the linear forecasts based on a simple-to-implement 'average' (or 'subsampled') estimator obtained by averaging standard sparsely sampled realized volatility measures generally perform on par with the best alternative robust measures.",

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Realized volatility forecasting and market microstructure noise

Abstract

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Keywords

ASJC Scopus subject areas

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